Strength against the Dollar not enough for the Pound

The pound reached its highest level against the dollar since the Brexit vote earlier this week and investors are clamouring to go long, but analysts urge caution.

While on the face of it the U.K. currency has seen a recovery, in reality it is more about the dollar, according to Societe Generale SA strategist Kit Juckes. In sync with sterling’s strength, the global reserve currency has fallen about 2 percent since the start of January.

“I look at the trade-weighted chart and the pound really hasn’t moved up from the bottom of the long-term range. It’s still very weak,” said Juckes. “What the euro does is far more important for the trade-weighted value of sterling than what the dollar does.”

Recent U.K. data have been mixed while positive news on the Brexit talks has yet to translate into actual progress. This means that if the dollar recovers, sterling could find its advance evaporating.

“I see a massive risk of that,” said Stuart Bennett, head of Group-of-10 currency strategy at Banco Santander SA. “The U.S. economy is strong, rates are about to be hiked with more to come and the long euro-dollar trade is full.”

The change in sterling’s fortunes has analysts looking at key technical levels for clues to the pound’s fate. The British currency touched a post-Brexit high of $1.3942 on Wednesday. The level of $1.3850 is key for this week and finishing below that could embolden investors to go short, said Juckes.

Reassuring Resilience

Still, investors are upbeat on the currency. The extent of the long position the market has built up means sterling would “probably need some worrying political headlines for it to plummet,” said Bennett. Market positioning is currently the most bullish on sterling since September 2014, according to CFTC data as of Jan. 9.

Also, the resilience of the pound versus the strong euro, emboldened by sustained growth and fading political risks, is a sign the British currency is “less sensitive to concerns on the political front, at least for now, ” said Jane Foley, head of Group-of-10 currency strategy at Rabobank.